Development Finance Assessment for Nepal Final Report November 2017 Province 7 Province 6 Province 4 Province 5 Province 3 Province 1 Province 2 Development Finance Assessment for Nepal Final Report November 2017 Province 7 Province 6 Province 4 Province 5 Province 3 Province 1 Province 2 DEVELOPMENT FINANCE ASSESSMENT FOR NEPAL Authors: This assessment was prepared by Erlend Nordby (Team Leader), Jens Claussen, and Pushpa Lal Shakya. Acknowledgements: This Development Finance Assessment (DFA) for Nepal was made possible by the leadership of the Ministry of Finance, International Economic Cooperation Coordination Division. We would like to express gratitude to the members of the Government Oversight Team which provided guidance to the consultants throughout the DFA process. Gratitude is also expressed to all stakeholders and partners, both within and outside the Government of Nepal, for their inputs and guidance throughout the process. This includes participants at both the Inception and Validation Workshops. Technical guidance was also provided by the Asia Pacific Development Effectiveness Facility (AP-DEF), as well as by UNDP. Financial contributions and support from the Asian Development Bank and the Government of the United Kingdom are greatly appreciated. Disclaimer: The views expressed in this publication are those of the authors and do not necessarily represent those of the institutions to which they are affiliated, including the United Nations Development Programme (UNDP), or the Government of Nepal, or the United Nations and its Member States. November, 2017 Editing and design by Inís Communication – www.iniscommunication.com FOREWORD Foreword This Development Finance Assessment (DFA) for Nepal was commissioned by the International Economic Cooperation Coordination Division (IECCD) of Ministry of Finance. The objective of the DFA is to shed light on the specific finance context of Nepal, looking across a range of public and private, domestic and external, sources of finance. It also provides insights into how the existing policies and institutional arrangements we have in place may need to be adjusted to reflect the increasingly complex finance landscape in Nepal and to maximize opportunities for additional resource mobilization in view of the financing gaps Nepal faces. I take this opportunity to extend my appreciation to IECCD for taking lead for this assessment. Similarly, my thanks are also due to other members of the Oversight Team, comprised of representatives from various Divisions of the Ministry of Finance, National Planning Commission, Nepal Rastra Bank, the Ministry of Labour and Employment, and the Ministry of Industry. As we look ahead to the challenges of mobilizing and managing a range of different types of finance in pursuance of our country’s development priorities, this type of intra-governmental collaboration will be critical, and I appreciate the initiative of IECCD to convene and seek inputs both within and outside the Ministry of Finance towards finalizing this important study. Finally, I am hopeful that the Government, as well as relevant stakeholders, will be able to fully utilize the findings of the report in order to benefit from this assessment. Shankar Prasad Adhikari Finance Secretary November, 2017 Preface This Development Finance Assessment (DFA) comes at a key moment for Nepal, as we celebrate important development achievements during the MDG era, while also facing the ambitious goals of becoming a Middle Income Country and achieving the SDGs by 2030. To translate this vision into action requires concrete and comprehensive strategies, including in relation to the mobilization and use of finance. This DFA provides evidence and analysis towards articulating how Nepal may make better use of existing finance, while not losing sight of the need to identify new avenues for mobilizing additional finance. The Addis Ababa Action Agenda, which emerged from the Third International Conference on Financing for Development in 2015, emphasized the need for countries to take a more integrated approach to managing all types of finance, by improving integration across government, as well as between government and other stakeholders. The DFA for Nepal makes recommendations towards this end, and its findings provide an opportunity for discussions with current and new development partners on how to manage transitions in the availability, volume, and use of specific financing instruments by continuing to improve our policies and institutional arrangements. While the DFA recommendations outline an ambitious agenda, we are committed to materialize it and look forward to collaborating with our partners on this. I would like to note that this DFA was overseen and guided by a Government Oversight Team. I extend my sincere thanks to all Oversight Team members, for the time and effort they contributed to defining the parameters of the study, attending Oversight Team meetings, and providing substantive feedback on several iterations of the report. The quality and relevance of this final DFA report have been much improved through these efforts. I thank the DFA Team, Erlend Nordby (Team Leader), Jens Claussen, and Pushpa Lal Shakya, for their hard work in preparing the report. Dr. Ram Prasad Mainali, IECCD Under Secretary and National Project Manager of the Effective Development Financing and Coordination (EDFC) project, deserves thanks for his effort and commitment to bringing this study to its final stages. I would also like to appreciate and thank Ms. Ashley Palmer, Aid Effectiveness Specialist with UNDP/EDFC project for her contribution to review and ensure the quality aspects of the report. My thanks are also due to Mr. Tilakman Singh Bhandari and Mr. Lal Bahadur Khatri for their overall facilitation extended through the EDFC project. I am hopeful that this report will be useful for policy makers, researchers, students, academics, development partners and those interested in better understanding the development finance context of Nepal. Finally, I would like to extend my thanks and appreciation for the support provided by the United Nations Development Programme, the Asian Development Bank, and the United Kingdom’s Department for International Development for making this DFA report possible. Baikuntha Aryal Joint Secretary and Chief, IECCD and Chair of DFA Oversight Team November, 2017 Contents Abbreviations . ix Executive summary . xi 1. Introduction . .1 1.1 Background and context: Nepal Development Finance Assessment . .1 1.2 Objectives and scope of work . .2 1.3 Report structure . .2 2. The DFA methodology and approach . .3 2.1 DFA methodology . .3 2.2 The DFA approach in Nepal . .5 2.3 Data collection . .6 3. Country context. .7 3.1 Economic performance. .7 3.2 Poverty and inequality . .9 3.3 Political developments . 10 4. Mapping the finance flows of Nepal . 12 4.1 Government revenues . 12 4.1.1 Tax revenues. .13 4.1.2 Other revenues . 14 4.2 Official development assistance . 16 4.3 Global concessional funds . 18 4.4 Other official wsflo . .21 4.5 Government borrowing . 22 4.6 Private sector investments and credit . 23 4.7 Venture/capital funds . .25 4.8 Foreign direct investment . 27 4.9 Public-private partnerships . 29 4.10 International NGOs . 31 4.11 Remittances. .34 4.12 Illicit financial flows . 36 5. Public sector management . .38 5.1 Policy coherence . .38 5.1.1 SDGs and Vision 2030 coherence in non-government sectors . 39 5.1.2 Localizing the SDGs and Vision 2030 . .40 5.1.3 Increased SDG coherence in Parliament. .41 5.1.4 Strengthening policy and institutional coherence . 41 DEVELOPMENT FINANCE ASSESSMENT FOR NEPAL 5.2 Policy planning constraints . 42 5.2.1 Systemic impediments to efficient policy planning and monitoring . 43 5.2.2 Opportunity for systemic shift towards more performance-oriented planning and monitoring structures . 45 5.3 Budgeting constraints . 45 5.3.1 Fragmented institutional responsibilities in the budget process. .45 5.3.2 Public financial management reform evidence promising but further improvements needed . 46 5.3.3 Absorptive capacity challenges . 47 5.3.4 Fiscal decentralization measures to improve efficiency in service delivery . 48 5.3.5 Continued focus on PFM reform processes needed. .49 5.3.6 Strengthening public sector management . 50 5.4 Enabling environment for accountability and dialogue for the SDGs. .53 6. Future financial flows to achieve policy targets . 56 7. Conclusions and recommendations . 60 7.1 New development phase. .60 7.2 Integrated National Financing Framework for Nepal. .60 7.2.1 Diversify and strengthen financing strategies . 61 7.2.2 Develop financing strategies. .63 7.2.3 Strengthen institutional coherence . 64 7.2.4 Strengthen alignment of development vision and sector strategies . 64 7.2.5 Develop a robust monitoring, evaluation and learning system. .66 7.2.6 Strengthen the enabling environment for accountability and dialogue . 67 7.3 Outline of a draft road map for implementation of DFA recommendations for Nepal . .69 Annex 1: List of documents reviewed . 78 Annex 2: Terms of reference for Oversight Team. .82 Annex 3: Oversight Team . 84 Annex 4: Participants at DFA Inception and Validation Workshops . 85 Annex 5: Participants at DFA Oversight Team meeting . .87 Annex 6: Stakeholders consulted during DFA Inception Mission. .88 PREFACE List of Figures Figure ES1: Integrated National Financing Framework conceptual model. .xii Figure ES2: Distribution of financing for development in millions of US dollars, 2015 . .xiv Figure ES3: Trends in the sources of finance for Nepal compared to LDC average, in bln NPR at constant 2015 prices . xx Figure 1: Integrated National Financing Framework conceptual model . .3 Figure 2: Revenue in bln NPR at constant 2015 prices, and as percentage of GDP . 12 Figure 3: Tax revenue in bln NPR at constant 2015 prices . 13 Figure 4: Tax revenue percentage of GDP relative to income level (GDP per capita at PPP rates), SAARC countries . 14 Figure 5: Foreign grants on budget in bln NPR at constant 2015 prices. .15 Figure 6: Other non-tax revenues in bln NPR at constant 2015 prices.